Newsletter No 1 March 2013

The Long-term oil price

Crude oil is the leading fossil fuel in the global primary energy system, and is likely to remain a key source of energy for decades to come. Its nearly unsubstitutable use in transportation, the high plausibility of an early peak in production levels, the concentration of reserves in a few countries that are perceived to be unstable, and climate change impacts from its consumption make its future supply and price of paramount interest to policy makers and scientists alike. PHD candidate Samuel J. Okullo’s thesis, written under the supervision of Prof. dr. Jos Bruggink, Prof. dr. Marjan Hofkes, and Dr. Frederic Reynes, and funded by an ACTS NWO grant on sustainable Hyrogen, develops a model that could be used to explore long-term developments on global oil markets. The model integrates technical approaches of fossil fuel modeling used by geologists with economic concepts that emphasize the impact of resource rents, mark-up pricing, and the behavior of OPEC (For further details: Okullo and Reynes (2011, 2012), and Okullo, Reynes, Hofkes (2012)).

With regard to the main theme of the research: the transition to a low carbon and how the price and supply of oil might influence such a transition, it is noted that while uncertainty in the level of the future global oil price is likely to remain quite large, the global supply of conventional crude oil is plausibly going to experience a supply induced peak within this decade or before the end of the next. The means that the later provides are firmer basis from which policy for the transition to a low carbon economy could be based. With declining conventional crude oil production, the increase in unconventional crude oil and biofuels supply, under current policies, is observed to fall short of filling the accruing supply gap. This substantially accelerates the increase in the global oil price in the medium to long-term. In the short to medium term, however, projections for the global oil price, under divergent assumptions about resource availability and demand, largely remain below the current price of US$ 87.23 (converted from 2012 to 2005 prices). It is noted that recent geopolitical, speculative, and psychological factors, are leading factors that can help explain the divergence of oil price from its fundamentals.

Accelerating the transition to the low-carbon economy, therefore, would require increasing the short to medium term cost-based price of oil through moderately high carbon prices. For instance, to currently make hybrid and electric cars competitive, as compared to their gasoline counterparts, a starting carbon tax of US$ 10 per barrel of oil would seem necessary (IEA, 2011). Moreover, so as to ensure the sufficient supply of clean alternatives when conventional crude oil starts to decline, further support for alternatives (such as biofuels), say through subsidies for production and funds for research into innovation, are evermore necessary. These results underpin the urgency for preparing for the decline in conventional crude oil production by supporting clean alternatives, and for putting in place policies that will curb the accelerated use of unconventional crude oil.